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The buy side risks being cut out of blockchain’s development without a coherent stance on how the technology should be implemented in financial markets, while the promise of the technology requires that firms take a more active stance, and not simply rely on the sell side to do it for them, according to a comprehensive new research paper reviewed by dozens of fund managers, vendors and trade associations.

The independent, in-depth report on distributed-ledger technology (DLT) seen by WatersTechnology, which will be published tomorrow through a number of outlets, and has been supported by the Investment Association (IA). The proof, the report says, is in the numbers—from sampling and informal observations, it estimates that around 90 to 95 percent of investment in DLT comes from the sell side, with the buy side making up the rest.

“The buy side has traditionally relied on the sell side to innovate for it, then there has been a rush to join in when innovations stabilized,” says Ian Hunt, a consultant and one of the authors of the report. “That was fine when the interests of the buy and sell sides were convergent, as they were, for example, for straight-through processing and FIX. DLT is different.”

Chris Mills, a consultant and the other author of the report, adds that asset managers have “a key role to play” in the evolution of this space.

“DLT is helping to redesign the ecosystem and it’s vital for the buy side to collaborate, to incubate and to lead the commercial delivery of the next generation of asset managers,” he continues.

Common Ground

The report is a significant milestone in the industry’s development of blockchain, as it is the first time that such a range of buy-side participants have contributed to a single study. Sponsored by M&G Investments, Linedata and Insight Investment, it has been peer-reviewed over multiple iterations by some of the largest investment managers, sell-side service providers, buy-side vendors and wider fintech specialists. [See Box Below]

The IA is planning to hold a launch event for the paper on February 6, while Microsoft and IBM are expected to host conferences on its findings in March and April.

Patricia Regnault-Fouqueray, head of asset management, Europe at Linedata adds that the report “provides a clear overview of the opportunities and challenges faced by the industry and provides some real food for thought for all buy-side organizations and their suppliers and regulators.”

Plus/Minus

Some of the key benefits of DLT, the paper finds, will be in the rationalization of existing services given to, and processes in, buy-side operations. Among these are the automation of manual processes and a reduction in paper-based procedures, the enhancement of data quality via shared access to common asset registers, and the ultimate achievement of dematerialization, or the elimination of physical stock-transfer processes.

Likewise, the potential for blockchain to enable near-real-time settlement will also introduce the potential to eliminate, and not just streamline, resource-intensive post-trade processes, the report says.

These findings are typically in line with what others have mooted as the key benefits of DLT. However, where they differ is in the key finding of this report—that while some elements of DLT’s potential for the buy and the sell sides are complimentary in nature, the ultimate benefits are less directly aligned.

For instance, the report suggests, widespread deployment of DLT has the potential to harm parts of the sell-side revenue stream by reducing the multiplicity of services on offer, disintermediating elements of the trade lifecycle and value chain—such as transfer agency—and introducing an element of commoditization in pricing.

“Asset managers need to move from the sidelines to embrace blockchain,” says Anne Richards, CEO at M&G Investments. “It has the potential to simplify and speed up many parts of the asset management operating chain, as well as improving accuracy and reducing error rates. Given the multiple different ways in which it could be applied, DLT could be transformational to the whole asset-management ecosystem.”

The report also finds that there is a significant amount of work needed on legal and regulatory fronts, in order for DLT to realize its potential, but admits that this may take years to achieve. Many regulations, it argues, underpin the institutions that dominate a pre-distributed ledger market; for example, Securities and Exchange Commission regulations that support the central processing of securities in the US, and regulations in the European Union that underpin the dominance of clearinghouses in derivatives markets and Target2-Securities in equities.

“The regulatory framework that exists today underpins the existing centralized, trusted and guarded model of securities processing,” says one anonymous vendor quoted in the report. “Unwinding this would take years and cross-jurisdictional cooperation—which is also not very easily achievable.”

Reviewers

The report’s reviewers, who gave feedback on two iterations of the report, demonstrate the depth of involvement from the buy side. The involvement of each person represents their views, rather than corporate policy on the part of their employers.

Asset Managers

Umberto Alvisi, Head of Risk at Millennium Global Investors

Chris Bedo, Head of Business Analysis at Royal London Asset Management

Adrian Grimshaw, Head of Technology and Transformation at M&G Investments